JCP: We'll Take the Other Side of Today's Sell-Off

Takeaway:Not particularly a high-quality 'feel good' call, but everything has a price. We'll take the other side of today's JCP sell-off.

Conclusion: We’re buyers of JCP on today’s sell-off. Let’s be clear about what kind of call this is, because it’s definitely not for the faint of heart. We still know nothing about the long-term strategy or upcoming management transition, and are still living with the balance sheet baggage from the past two years. This is a company with no square footage growth, where the average consumer could care less if it exists or not. (Sounds great, huh?). But everything has a price. And at $10, way too much credence is being given to the ‘terminal’ call. We can say a lot of bad things about JCP, but we definitely don’t think it is terminal and our recent work suggests that much of the business lost is definitely recoverable. As it relates to liquidity, we think that the only reason why the company would act now is to ensure that it has the best pool of CEO candidates possible (questions around liquidity would otherwise weed out the best candidates).

1) Some Consumer Insights From Our Recent Survey Work

Our recent survey work of JCP’s customers suggests that they left (or are spending less) for reasons that arefixable. Such as a) poor pricing, and b) lack of sales/promotions…

Consumers noted, on the whole, that they will return to JCP if these items are fixed.

Another big negative… elimination of exclusive brands like Arizona, St. John’s Bay, etc…

Consumers went to KSS and M more than any other retailers. We think KSS (which got about 19% of JCP’sbusiness lost) will be particularly easy to target for customer re-acquisition. We’re talking about $800mm.

2) Gross Margin: Don’t underestimate the GM opportunity here. Johnson took away $2.5bn in revenue at 48% GM%, and substituted it it with under $1bn of revenue at 33% GM%. That’s a 500bp opportunity right there.

JCP Historical Gross Margin Change

3) Liquidity: Our analysis (below) suggests that JCP’s liquidity will definitely be tight – starting in about 6 quarters – but will not crimp its ability to self-finance its recovery. The company has in excess of $1bn of sources to monetize before tapping capital markets (which is not included in the analysis below). Here’s a catch: They’re searching for a CEO. Having a cash-filled balance sheet broadens the pool of candidates. As such, they might tap markets simply to get the right talent on Board.

4) Re today’s price movement: Five things combined to create the massive sell-off you see today.

A research firm came out today saying JCP 3Q sales are weak and that the company won’t comp in 4Q

Zerohedge glomming on to the fact that GS profited from the JCP secured term loan that it issued (and currently holds) in April, and now it is trying to make money on the other end while it pushes for JCP to file.

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09/25/13 12:46 PM EDT

McCullough: Bernanke Channels Nero

Takeaway:This is the first 2013 US stock market “correction” that I will not be buying because of Ben Bernanke.

Editor's note: Forbes published an opinion piece written by Hedgeye CEO Keith McCullough earlier this morning. The following is an excerpt. Please click on the link at the conclusion to continue reading.

Central planners have been clipping coins and devaluing the The People’s hard-earned currency for at least two thousand years. The Roman Emperor Nero of course devalued the Roman currency for the first time in the Empire’s history.

...If you don’t understand the history of un-elected politicians devaluing currencies, you have some reading to do. Most people who aren’t paid not to “get” it understand this now. Self-education is the best long-term path to avoid becoming a lemming.

Look, I’m not that smart. Most people who have seen my SAT scores would agree. But I work hard and I recognize that Mr. Market is a very smart cookie. What I tend to get on a lag, is what Mr. Market is telling me to get. Unlike our Fed Chief, I don’t wake up every morning trying to bend economic gravity.

Ben Bernanke believes he can “smooth” gravity, economic cycles, etc. He’s basically telling the entire bond, currency, and stock markets that they are all wrong. So let’s stop, rewind the tapes and go to the score – what have markets done since Bernanke decided not to taper?

BOOK REVIEW: ANTIFRAGILE

Takeaway:Buy the book. A must read.

I’ve had many of you ask me for my thoughts on Nassim Taleb’s latest risk management book, Antifragile. So, in the spirit of the main criticism I’d give the book (it’s repetitive), here are some brief notes (< 1000 words = Top 50 highlights):

Summary Thoughts

He doesn’t like academic/unaccountable government policy. Neither do I.

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09/25/13 11:17 AM EDT

MCD: SIGNS OF LIFE? MAYBE (MAYBE NOT)

Clients often remind us that we’ve had a great call on MCD this year, but also prod us not to get carried away with our bearish bias. Admittedly, this is not an easy feat – but, as the facts change, so will our call. Our intention is always to remain flexible in our coverage.

That being said, our bearish bias has not changed. Below we highlight four recent events and their potential implications.

The stock outperformed the S&P 500 over the past month

The current Mighty Wings promotion

Changes in the Eurozone

Personnel changes in the U.S.

Stock Price Performance – MCD is up +2.8% over the past month, outperforming the S&P 500 and its quick-service peer group by 80 bps and 200 bps, respectively. Given that the stock had underperformed the S&P 500 by -20.9% YTD, we knew the slightest whiff of good news would push the stock higher. So where is the good news coming from?

Mighty Wings – MCD hasn’t generated as much buzz around a limited-time offer (LTO) since the McRib promotion. But, at the end of the day, it is just a LTO. The recent buzz might create a month or so of stronger sales trends, but we don’t view this promotion as a game changer for the company. Selling chicken wings may temporarily boost sales, but, in the long run, we fear that it will end up inflicting more harm than good. Asking the currently disgruntled franchisee community to prepare yet another product, with a slower than normal preparation time, will only add to the service issues the company is already experiencing. In our view, this is likely to lead to further deterioration of the MCD brand.

Changes in the Eurozone – MCD has been trading better since the release of August comps on September 10th. Global trends in August were stronger due in large part to better than expected results in Europe. The company reported Europe same-store sales growth of +3.3%, on top of +3.1% growth a year ago, as the UK, Russia, and France were strong. Several of the MACRO indicators we monitor in Europe continue to show improvement in the region, specifically in Germany, MCD’s most important European region. Today, the forward-looking German Consumer Confidence Indicator from the GfK Survey rose to 7.1 for October, surpassing consensus expectations. GfK notes that, “despite a fall in income expectations, German consumers are almost euphoric when it comes to their propensity to consume.” Investors also got some good news from Italy, another market that has given MCD considerable headaches in the past. Today, Italy’s Consumer Confidence Index jumped to 101.1, its highest level since June 2011.

Personnel Changes in the U.S. – Yesterday we learned that MCD’s Neil Golden plans to retire early next year. Given the importance of MCD’s marketing message, it is clear that the company does not have its act together, particularly in its most important region, the U.S. Despite the recent limited-time offer of Mighty Wings, McDonald’s continues to struggle in the region.

Summary

The stock is having a strong month and Europe is looking stronger, on the margin, for the company. However, the U.S. continues to struggle and we believe it will be a while before the company returns to high-single digit EPS growth.

Takeaway: The athletic footwear industry continues to put up lackluster weekly retail POS results. The latest week was -1.4% per NPD – not good. The only positive is that average selling price is still +3.4%, which is good to see, as ASP degradation is the first sign of a protracted (and unmanageable) slide in industry sales. Nike’s print tomorrow should offer up additional color on the space.

"U.K. retail sales rose at the fastest pace in 15 months in September, boosted by grocery and furniture stores, according to an index by the Confederation of British Industry."

"A gauge of annual sales growth increased to 34, the highest since June 2012, from 27 in August, the London-based lobby said today. Economists had forecast a drop to 23, according to the median of nine estimates in a Bloomberg News survey. Retailers expect sales to maintain their momentum next month."

"A gauge of the volume of orders placed with suppliers climbed to 14 in September from 10 in August and a measure of sales volumes for the time of year rose to 12 from 10. A three-month moving average of sales jumped to 26 from 15."

"The CBI’s survey of 61 retailers was conducted between Aug. 28 and Sept. 11."

Takeaway: This synchs with comments from Foot Locker and Sports Direct that the UK is clearly getting better on the margin.

"The frontrunners to acquire Lucky and Juicy have both dropped out... The firm, which declined to comment Tuesday, is still working to sell the brands."

"In the case of Lucky, the weakening outlook at the business appears to have been a key factor in the last-minute change in M&A dance partners. Fifth & Pacific had been in exclusive talks with private equity firm Advent International for Lucky, but the deal fell apart 'on the one-yard line' late last month, according to one of several financial sources, who confirmed that the deal fell through."

"Even as Advent stepped out, one source said, at least three other players have moved to the fore and are vying for Lucky, although their identities could not be confirmed."

"At Juicy, sources said that IDG Capital dropped out of the bidding last week. Talks intensified between Fifth & Pacific and IDG in August, and Authentic Brands Group was seen as a backup bidder. Now it looks as if Authentic could leap to the forefront. Calls to Authentic for comment were not returned."

FNP Takeaway: It goes without saying that this is a bump in the road for FNP. But as it relates to the sale of Lucky and Juicy Coture – whether they go for $600mm or $800mm is fairly meaningless in the grand scheme of things for this company. Will it move the stock by a buck or two up or down? Yes. Around $0.85 per share for every $100mm to be precise. But either way the proceeds will be enough to completely eliminate FNP’s debt burden 2x over. Then you’re left with a debt free Kate Spade, which is a brand that is nearing $1bn, and headed to $3bn-$4bn, with all the capital it needs to grow. Still a very big idea. A sell-off in the wake of the M&A news is all we’d need to once again get much louder on the name.

JOEZ:

"Meanwhile, the Hudson deal has been delayed by a month as Joe’s worked to secure financing."

"The deal, in which publicly held Joe’s would pay $97.6 million in cash and convertible notes for the assets of privately held Hudson Clothing Holdings Inc., was unveiled on July 15 and originally was expected to close by Aug. 31. When details couldn’t be hammered out in time for a Sept. 15 deadline, a waiver was granted extending the date to Sept. 30." "CIT Group, which has provided day-to-day financing to both companies, remains committed to the deal, according to market and financial sources. A second lender, believed to be Goldman Sachs, has withdrawn, with the transaction moving toward completion with the participation of Garrison Investment Group in Goldman’s place."

Alibaba - Alibaba Said to Plan U.S. IPO After Hong Kong Talks Break Down

"Alibaba Group Holding Ltd. is moving toward an initial public offering in the U.S. after talks for a Hong Kong listing broke down following management’s proposal to keep control in a share sale, according to two people familiar with the matter."

"China’s largest e-commerce company is seeking U.S. law firms to help with an IPO and hasn’t hired banks yet, said one of the people, who asked not to be identified because the process is private. Alibaba is likely to choose the New York Stock Exchange, another person said."

"Investment banks have valued Alibaba at as much as $120 billion, which would make it the third-biggest Internet company behind Google Inc. and Amazon.com Inc. based on market capitalization."

Takeaway: Whether you care about the on-line space or not, you need to pay attention to Alibaba. It is bigger than Amazon and eBay combined, and absolutely dominates Chinese e-commerce. Not only is it dominant, but it also does an incredible job with brand presentation. Certain US Premium and Luxury brands that have yet to go into China are evaluating having Alibaba host its site instead of building fulfillment operations organically. They’d never in a million years consider that with Amazon. Let us know if you want to talk in greater detail about this one.

Disney’s "store within a store" will begin in JCP stores around the country this week.

"The Disney mini-stores are a legacy of former JC Penney CEO Ron Johnson's vision to transform the retailer into a collection of shops maintained by different vendors. This is no ordinary licensing deal with generic Disney merchandise that can be found at any retailer. The concept was originally conceived to give Disney 750 to 1,000 square feet of space crammed with exclusive merchandise."

Takeaway: Out of any JCP shop-in-shop, this is potentially the most productive space as it spans apparel, toys and collectibles. Also, let’s not forget the fact that Disney now owns the Star Wars license.

"Macy's has nearly doubled the size of its ship-from-store program over the summer and may now be handling tens of thousands of orders per day, according to the Cincinnati Enquirer."

"The department store chain has added fulfillment departments to 200 stores this summer, increasing the total to 500. One store in the Cincinnati area, which has been part of the ship-from-store program since 2012, on a typical day ships 50 to 60 orders to Macy's customers who ordered items that they wanted to buy in another Macy's store that was out of stock. If that's typical, Macy's could be shipping between 25,000 and 30,000 orders every day from the 500 stores. (Macy's hasn't given out actual numbers for the ship-from-store program.)"

"That's a typical day. During one of the chain's one-day sales, the volume is typically 75 to 100 orders. During the holiday season after Thanksgiving, the store handles 300 to 400 orders a day."

"The company filed a confidential filing in July with the Securities and Exchange Commission that was made public late Tuesday. The filing, which said shares will trade under the symbol 'VNCE', did not state how many shares will be issued nor at what price."

"The filing was made by Apparel Holding Corp., which holds the Vince business and the nonVince businesses under the Kellwood umbrella. Following the IPO, Vince will become Vince Holding Corp. The non Vince businesses will be under the Kellwood Holding Corp umbrella."

"For the six months ended Aug. 3, Vince posted net income of $2.4 million on net sales of $114.7 million."

"Sears Canada Inc.’s move to replace its chief executive officer with a former turnaround specialist has landlords weighing the prospect of buying back more of the retailer’s coveted leases to make way for new rivals."

"Sears confirmed on Tuesday The Globe and Mail’s report that CEO Calvin McDonald was leaving 'to pursue an opportunity with a leading international company,' without naming it. He is being replaced by chief operating officer Douglas Campbell."

"Landlords have been in talks with Sears about the possibility of buying back prized leases from the struggling retailer, industry sources said. Already, Sears has sold a handful of its leases, raising almost $400-million. The landlords are hankering to regain control of the properties because of Sears’ weak results, the stores’ prominent mall locations, their low rents, and the scarcity of prime retail space."

"[AMZN]...is staying the course with a new line of Kindle Fire tablet computers that undercuts competitors like Apple Inc.'s iPad on price, and appears designed largely to drum up sales for other services such as digital music and e-books."

"The company plans to unveil on Wednesday two new versions of its tablets—the Kindle Fire HDX—available with 7-inch or 8.9-inch screens."

"The Kindle Fire HDX starts at $229 for the 7-inch version and $379 for the 8.9-inch version, and models with 4G wireless connectivity are $100 more each"

"[TIF] has appointed Frederic Cumenal to the position of President of Tiffany & Co. and also appointed him to a newly-created seat on the Company's Board."

"In his new role, Mr. Cumenal, 54, will retain his regional responsibilities and will assume responsibility for the Design, Merchandising and Marketing functions. Mr. Cumenal will continue to report directly to Mr. Kowalski…"

Frederic Cumenal joined Tiffany in March 2011 from LVMH where he was the President and CEO of Moet and Chandon.

Takeaway: LVMH is a hot-bed for talent sourcing. In January 2012 Daniel Lalonde left LVMH to become the head of International for Ralph Lauren.

"Crocs is giving millennials a reason to kick back and relax. [Crox] declared Sept. 28 International Comfort Day... As part of Crocs’ initiative this Saturday, retail stores throughout the Americas, Europe and Asia will offer consumers a 20 percent discount. The company also will donate 20,000 pairs of shoes to individuals in need."

"Timberland is bringing some lightheartedness to the workplace. For the brand’s Pro line of workboots, advertising firm The Martin Agency created a range of TV spots that depict industrial 'work fails.'"

"The ads debuted this week on a variety of cable networks, and microsite Stayonyourfeet.com also launched in conjunction with the commercials."

"[TGT] announced that Target Ticket, its new digital video service, is available to guests nationwide."

"Target partnered with Common Sense Media, a San Francisco-based non-profit organization best known for its reviews of movies and television shows. Through the partnership, Target Ticket gives guests access to thousands of reviews, making it easier for parents to choose the right content for their children."

"Once consumers became comfortable purchasing apparel online, brands and retailers sought to enhance the experience through social media sharing options, crowdsourcing — and online customer comments sections. What may have begun as a means of increasing sales via search engine optimization has grown to be a barometer of what’s in and what’s out of favor with the buying public."

"Cotton Incorporated set out to quantitatively measure these customer comments, and the result – the Cotton Incorporated Customer Comment Project – reveals what makes apparel consumers rant or rave about their purchases."

"Kantar Retail’s Anne Zybowski, vice-president of retail insights, says comments boards are a high priority for some retailers…'We’ve seen some retailers whose redline or clearance items correlate with a product’s negative online review.'"

"The Customer Comments Project also revealed some surprising findings about key products. Positive ratings for denim jeans are the lowest compared to other major categories studied, and uncover significant consumer dissatisfaction with negative textile issues, as well as fiber substitution away from cotton."

"Now that cotton prices have stabilized, those retailers who turned to synthetics may want to consider switching back to natural fibers like cotton – or risk the wrath of their customers, who can turn to those very sites to share their discontent with a ready audience."

"Canada, the Netherlands and the U.K. have signed an agreement with the International Labor Organization to boost labor inspection and upgrade building and fire safety in Bangladesh’s garment sector."

"The three nations 'combined pledged $24.3 million' in support of the ILO-led plan, officials and diplomats familiar with the details of the program, launched in New York during the annual meeting of the United Nations General Assembly, told WWD."

"The ILO plan is supported by other parallel initiatives focused on the ready-made sector in Bangladesh, namely the Accord on Fire and Building Safety in Bangladesh that was signed by some 80 global clothing brands and retailers, and covers 1,800 factories, and the Alliance for Bangladesh Worker Safety, a binding five-year undertaking by North American apparel companies and retailers to improve safety in more than 500 factories."

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